Hidden costs of takeovers

ANN SHORTELL December 7 1987

Hidden costs of takeovers

ANN SHORTELL December 7 1987

Hidden costs of takeovers


The company’s new owners watched helplessly. In December, 1985, at the height of the Christmas shopping season, truck after truck pulled up outside Consumers Distributing Co.

Ltd. stores across Canada. But they were unable to unload all their merchandise because a new computerized distribution system installed by the old management at Consumers had broken down. Inside the stores, clerks standing in front of empty shelves were forced to turn customers away. Partly as a result of the computer breakdown, the company lost $29.2 million that year as executives from Consumers’ new controlling shareholder, Provigo Inc. of Montreal, stood on the sidelines, capable of doing little more than adding up the damage.

Only four months earlier Provigo, a giant grocery retailer, had spent $25 million to boost its voting stake in Consumers to 46 per cent from 23 per cent.

But Provigo was left with an investment that was suddenly in very serious and expensive trouble.

Corporate takeovers are risky at the best of times. Even barring an absolute disaster such as Provigo’s experience, there can still be expensive surprises awaiting a new manager. Even so, takeovers have become one of the trendiest business gambits in the 1980s. In 1986 there were 3,300 corporate buyouts in the United States and almost 900 in Canada, up from 1,900 and 400 respectively in 1980. The acquisition game can be expensive, and it can instantly shift a company’s focus from one specialty to another. In the process, assets are often sold and established firms are broken up or merged into others. And just how successful a takeover is can take months or years to determine.

Indeed, Provigo, for its part, does not expect Consumers to turn around for

another year. And Imasco Ltd. of Montreal, which paid $10 million in stockbrokers’ fees alone during its contentious April, 1986, takeover of Vancouver-based Genstar Corp., is still not sure how much the takeover actual-

ly cost. Canadian real estate baron Robert Campeau, for one, spent more than 10 times as much—$110 millionin fees to orchestrate his $4.98-billion buyout of Allied Stores Corp. of New York in September, 1986. But more than a year later he is still selling off Allied and Campeau Corp. assets to complete the reshaping of his new empire.

For Campeau and his counterparts at Provigo and Imasco, the toughest work began after the takeovers were completed. They had to ensure that the mil-

lions of dollars they had spent would ultimately benefit their companies. In their efforts to do so they have overhauled operations, sold off assets and fired top executives. But in each case, the difficult turnaround strategy had to be worked out before the takeover. Said real estate analyst Harry Rannala of Merrill Lynch Canada Inc.: “If you do not have your ducks lined up when you go into play, you have got a problem.” While the acquired firms have changed in the process, so, to some extent, have the acquisitors. When Toronto-based Campeau Corp. bought Allied Stores, a Canadian property development company became a major North American retailer and real estate conglomerate. Robert Campeau, who owns 50.1 per cent of Campeau Corp., said last week that he has sold or merged 16 of Allied’s 22 subsidiary operations for $1.6 billion. He has also sold some of

Campeau Corp.’s own original assets— including a half-interest in a 68-storey office building under construction in Toronto’s financial district. Last March the Reichmann family-controlled Olympia & York Developments Ltd. bought it for an estimated $300 million. And Maclean's has learned that Campeau has put some of his firm’s other prime real estate assets, including shopping malls in Quebec and office towers in Ottawa, on the market.

Indeed, takeovers usually command most of the acquisitors’ time and ener-

gy, as well as available assets, for months. Campeau is now the chief executive at both Allied and Campeau Corp. But he told Maclean's that he spends the entire week in New York, returning to his Toronto office only on Saturdays and leaving the operation of his Canadian real estate arm to his management team. At Imasco, chief executive officer Purdy Crawford said that he has spent 30 to 40 per cent of his time trying to sell off parts of Genstar Corp. As a result, according to some analysts, management has neglected other areas of Imasco’s operations, and losses have followed.

In some cases the drain on management resources at both the conquered and conquering companies is increased by time-consuming and costly clashes over corporate strategy. That happened at Consumers in the year following the initial Provigo share purchase. At first, said Henri Roy, executive vice-president of Provigo, the company adopted a hands-off approach. But when Consumers’ troubles continued, he said that Provigo quickly exercised its control over the board of directors and the board’s executive committee. And after the disastrous December, 1985, results, Consumers chairman Jack Stupp, who had sold the shares he owned in Consumers to Provigo, left the company. By last January, Provigo executives had lost faith in existing Consumers management and Roy moved in as chairman.

When Imasco went after Genstar in April, 1986, Imasco officials considered Canada Trustco to be the jewel of Genstar’s assets. Imasco chief Crawford said that he planned to sell the rest of Genstar’s holdings, including real estate and a cement company, and put the proceeds toward the $2.6-billion cost of the firm. Although Imasco was rich enough to finance the takeover, some analysts said that Imasco still wanted to sell off some of Genstar’s assets to help finance the deal. Initially, Crawford said that he expected to raise at least $800 million selling off Genstar assets, but so far he has generated only $600 million.

Erasing the massive debt that he piled up during the Allied takeover is even more important for Campeau. He told Maclean's that his strategy was to cut Allied’s head-office administration costs to $35 million from $75 million to help make the deal more profitable. That saving, combined with $1.54 billion raised through the sale of less profitable Allied divisions, leaves the company leaner but more profitable, he added. As a result, Campeau said, he expects Allied’s profit margin to jump to 15 per cent in 1988 from its current 10 per cent. Said Campeau: “We have now turned it around completely.” And, according to Merrill Lynch’s Rannala, that financial

discipline was essential. Said Rannala: “The level of debt is so high the interest costs eat away at your equity.”

But even a buyer with a seemingly sound corporate strategy in place can suddenly find it shattered by forces beyond his control—such as sudden changes in government legislation or a precipitous drop in share prices. Indeed, the Imasco purchase of Genstar and Canada Trustco caught the federal government by surprise. Ottawa was in the midst of changing the rules governing the ownership and operation of financial institutions. The government withheld ratification of the takeover until Crawford agreed to comply with intended, rather than existing, rules limiting the extent of corporate shareholdings of trust companies. As a result, Imasco is committed to selling 35 per cent of Canada Trustco by the end of 1991. And the final judgment on Imasco’s takeover will be determined by the price it gets for that share, financial analysts say.

Sudden changes in the economic climate can also be painful. For instance, the Oct. 19 stock market crash forced Imasco to postpone a plan to sell nine per cent of its holding in Canada Trust for $78 per share. Crawford said that the company now plans to wait out the market downturn.

But for Provigo, the crash solved a ticklish fight that it was waging with Consumers’ institutional shareholders. Those shareholders turned down Provigo’s offer for remaining publicly held Consumers’ shares at $7 per share when it bought its block in 1985. In early October, just before the crash, Provigo made a follow-up bid for stock, that time at $5.50 a share. Large shareholders were preparing to block the bid. But when the market collapsed two weeks later the stock price fell to $4, and they eagerly offered their shares to Provigo, which had to follow through on its offer of $5.50 a share. Provigo now owns almost all the Consumers shares.

The final judgment on all three takeovers is still to come from the business community. Critical financial problems remain to be solved. And for the three retailing operations, the effects of the crash on consumer spending will be a crucial component in the outcome of the acquisitions, analysts say. Imasco’s Crawford says the key to any takeover is ensuring that the company has the cash flow, as Imasco did, to ride out all the potential rough spots. Imasco may do it again, he added, but “we would have to be able to control our own destiny throughout.” But in the arena of corporate risk-taking, control is a rare commodity.